The Bank of England has warned that people with large loan to value mortgages at the moment will struggle to maintain their loan repayments in upcoming years, if they do start to plan their finances in accordance to higher interest payments.
The Bank argued that if interest rates increase prematurely, wages will have to rise at a similar rate otherwise many will be faced with monthly repayments that they will simply be unable to meet.Earlier this week, data from the Office for National Statistics displayed that the unemployment rate in the country fell to 7.4% last month, down from the 7.6% the month before.
Previously Bank of England governor, Mark Carney, set a provisional unemployment threshold of 7% before interest rates would be increased, though he has refused to agree to any premature rises following the unexpected decreases this year.
He also announced that mortgage providers would no longer be receiving money from the Banks Funding for Lending scheme, meaning that mortgage rates may rise prematurely anyway to bridge the gap created by the loss of funding.
Statistics from the Council of Mortgage Lenders estimated that there was a 30% rise in mortgage lending during 2013, meaning that the average debt of a UK home is now believed to be a monumental £87,000.
And the bank has warned that a sudden rise in interest rates would mean that those enjoying relatively low monthly repayments at the moment would be hit particularly high, unless something was done to increase the value of actual wages across the country.
No action, the bank has argued, would push UK borrowers to the edge, with a possible ‘debt cycle’ being a consequence if the issue is left unaddressed.
“Higher interest rates would increase debt-servicing costs for households, but the extent to which that may pose problems for households in the future will depend on how much incomes increase before rates rise,” it says.
The base rate of the Bank of the England is currently at a historic low of 0.5%, which has meant that people have managed to acquire mortgages that only necessitate small monthly repayments.
However, an increase to 3%, still significantly lower than the pre-recession 5%, would mean that the number of ‘vulnerable mortgagors’- a term used to describe households that allocate at least 35% of their salary on mortgage repayments- would double in size unless something was done to hasten the rate of wage rises.
However, the bank estimated that even insuring a 10% average income rise by the time that interest rates increase to 3% would not be sufficient to prevent the number of vulnerable mortgagors rising to 12% from the current 8%.
A survey of people who have secured loans currently displayed that almost 50% of them believed that an interest rate rise would force them either take out further liabilities, scale down their lifestyle or get greater hours at work in order to deal with the new financial strain on their lives.
Matthew Whittaker, an economist at prominent think tank the Resolution Foundation, said the key to preparing the
country for the future was to make changes to the wage policy of companies, so that people were better placed to deal with new financial strains in the future.
“The really tricky bit for the Bank of England is if you start to get rising inflationary pressure because of spending by affluent people, but people at the bottom who still haven’t dealt with the debt hangover from the good years don’t see any real income growth”, he said.
The data from the Bank of England will undoubtedly be compounded on by critics of premature interest rises as clear evidence that they should be kept low whilst households prepare themselves for new costs.
This is a view shared Trade union congress general secretary, Frances O’Grady, who argued:
“Household budgets remain under immense strain and any upward move in interest rates could be enough to tip many families over the edge.”
With interest rate rises an inevitability at some point in the next three years, families should be conscience of higher repayments in the future when taking out any new loans.
The government should also make more of an effort to bolster small business lending, because this would mean the creation of higher quality jobs, which by extension would increase the average income of the UK household.
In the mean time, it should be regarded the responsibility of the Bank of England to be reactionary when considering interest rate rises, and personal debt levels and disposable income figures should be monitored carefully before any premature rise in put into action.